8/21/2011 @ 12:14PM6,016 views

Warren Buffett, His Secretary And Financial Literacy

I’ve long admired Warren Buffett and still do. I’ve heard him tell many times how his secretary pays a larger percentage of her small income on taxes than he pays on his large income. Sometimes he elaborates; sometimes he doesn’t. When he doesn’t, he does a great disservice to the cause of financial literacy in this country and, inadvertently, I’m sure, stokes the embers of class resentment. This is not a good time to be doing that.

I was traveling and didn’t see his August 15 New York Times opinion piece on that topic, but I saw and heard lots of references to it. I don’t think any of them got to the heart of the matter. Instead, it was, as usual, all about the unfairness of rich people paying a smaller share than poor people. I’m sure that fed and inflamed the preconceptions of lots of well-meaning, but uninformed voters, whose emotions are already running ahead of the facts.

I tracked down the piece to see if it was as bad as its superficial coverage suggested. It wasn’t, but you wouldn’t know that from the title, “Stop Coddling the Super-Rich.” The highlighted phrase was “Billionaires like me should pay more taxes.” I’m sure most taxpayers would agree with that, including those who don’t actually pay any federal income taxes because their incomes are below the taxable threshold.

The point—the heart of the matter—is that most of Mr. Buffett’s income consists of dividends and long-term capital gains that are currently taxed at a 15 percent rate. This is true of many money managers whose “carried interest” is taxed at that favorable rate. Somehow that doesn’t seem fair. But the picture clouds once you consider that this is not the first time that income is taxed. The corporation was first taxed on it, possibly at the high marginal rate of 35 percent, the same as the highest earned-income marginal rate on individuals. Thirty-five plus 15 add up to a 50 percent total. Thirty-five plus another 35, which Mr. Buffett presumably would suggest would add up to a 70 percent total—a pretty hefty tax on capital.

Mr. Buffet did not demagogue in his piece as one would assume based on its reporting. He gave a fair analysis of the issues involved. My experience tells me that he probably didn’t choose the title put on his piece by the editors. But I’m guessing serious damage was done by the title and the short-hand, slip-shod coverage of his piece in the popular press.

Frankly, I don’t have a firm position on the issue of carried interest or the taxation of professional investors. It still seems unfair even when you recognize the logic of it. The lead editorial in the Wall Street Journal had a good analysis of various aspects of the issue on August 17, which, as one would expect is just a predictable as the New York Times position.

Perhaps they should leave the favorable treatment as it is up to a point, but then have some minimum tax that must be paid if gross income is above some level. They might call it an “alternative minimum tax.” But, wait! I think we tried that already, and it didn’t work out so well.

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I’m big on financial literacy too. So I took the trouble to look at Berkshire Hathaway’s financial statements (There is a link in my post on the subject). BH’s total income tax expense (federal, state and foreign) under generally accepted accounting principles has been between 26% to 30%. Much of that is deferred, cumulatively 32 billion. Also there is no corporate tax on the unrealized appreciation at the shareholder level. The tricky part is figuring out how much corporately taxed earnings and profits are included in the market capitalization of the stock. I’m not confident that I nailed that, but I’d love it if someone else would take a look. I make it that when WB sells some BH stock (which does not pay dividends) there is about 7% of corporate tax (federal state and foreign) embedded in his proceeds.

18,000 “American” companies are based out of one address in the Cayman Islands. I would be curious to see how many American Companies pay no tax to the good old USA. The Cayman’s is but one of many tax shelters.

You are wrong that American companies pay 35% before giving any to their investors. Maybe a few still do, but offshore licenses are the norm and not the exception.

Even for those that are “American” companies there are numerous laws to keep the corporation or its shareholders from paying tax or granting a reduction in tax; look up S corporations (only one example).

You are also wrong in figuring that the 15% paid as capital gains would then be added to 35% to make a total of 50%.

I pay 29% of my income in tax, which is a greater percent than Mr. Buffett pays. This is just wrong.

I am also “double taxed” for if I get a tax refund in any given year; I pay tax twice on that refund.

I pretty much agree with your conclusions BUT you are also contributing to the poorly written presentations. One would not ADD 35% tax on corporations to the 35% tax on individuals as at best (or you can see it “as worst”), the one tax acts upon the other and mathematically reduces the total (or really, the “net”). Also, there is the fact that in few instances is the entire profit “passed through” in dividends (which are usually, in well run companies, a fraction of the profits, the balance being retained to aid in earning future profits.

The problem with fixing the carried interest problem, if it is a problem, is that it flows from fundamental principles of partnership taxation. The partnership form (which includes LLC’s) is currently one of the best vehicles for start-ups, althought a lot of venture capitalists still seem to favor C corporations (go figure) for their investees, if not their funds.

The only fix that I can think of that would not create havoc in other areas would be to deny Subchapter K treatment to purely invesment entities. What is proposed instead is Code Section 710, which will add about 3,000 words to a Code that many think is already a little too long.

On the bright side, it will be a white collar jobs program for partnership tax experts.

My main problem with people that say it will income will be taxed at 35% is that corporations rarely pay the full amount. If they do they should fire their accountants.

Also it seems obvious to me but taxing income at 35% and then at 15% does not equal taxing at 50% it is less you can not just add them together. If people are going to write articles about calling Warren Buffet at least take the time to inform people on what really happens. Everyone keeps throwing around the worst case scenarios on both sides of the coin and it doesn’t do anyone any good.

Right. The other thing is that if a stock is trading at a multiple of book value, which is generarlly the case, the gain that the shareholder has will not have been subject to corporate tax. That is the trickiest part to figure out.

I believe the professional view is very different from the general view. It’s like all things in life, perception is the percievers reality. Most folks see this as an issue of look what shape the country’s in and it’s big corporations and their wall street bankers that caused this. I sure as hell didn’t screw the economy up and cause millions to be unemployed and getting kicked out of their homes. Then worse, we’ve got all these politicans referring to people who, through no fault of their own, have been unemployed a long time as the “poor” and “unemployable” and a huge drain on the economy.

Now, from the perception of the new “untouchables” caste, there are a lot of rich people ripping off what were the middle classes and less fortunate. Now all this seems like a bunch of left wing drivel except that it has become reality for far too many of our citizens. They are being marginalized by the banking and financial types and the TeaParty and numerous politicans saying we’ve got to cut spending when there seems no rational reason for doing that with so many people without.

Warren’s effort to take the other view based not on how the tax laws read but on how they should read (perceptions) during the current situation is probably more realistic to the general population than the professional view. Many news commentaters and finance analysts have made the point that there is no lack of accrued funds for investment. So, just letting the super-rich or even the rich continue to lounge through life without extracting some of those earnings, and let’s face it, those are earnings which many of the general populace do not have and have no prospects for, doesn’t seem like good policy. Keep in mind the general view is the companies in BH’s portfolio have made so much money they were able to pay taxes on it and still dispense enough of it out that those recipients had to pay more taxes and they still made a bundle. That doesn’t sound overtaxed to them. So, what about the rich paying more in taxes to reduce the deficit untill everybody else gets back to being taxpaying citizens? Is it good policy? Would a higher tax on high incomes result in serious consequences, other than some rich folks and their political allies suffering a little bit too?

All the articles trying to figure out where Warren got his numbers from and show why he’s off base may mean something to the Wall Street crowd, but they’re way off base to the rest of the people. Higher taxes on upper income earners are appropriate at this time, mostly because there’s no impact on the availability of capital. All these numbers and analyses really don’t mean squat if you simply look at it from the perspective of how much will it help or hurt in the current context.

Our approach to applying economic principles is far to restrictive for something that has almost no real empirical proof to it. We look at high level numbers and make decisions based on them that may be completely wrong when those decisions are applied to individual everyday transactions.

First of all Mr McTeer needs a quick math lesson. If the corporation pays 35% (doubtful) and Buffet pays 35%, that would be 57.75% not 70%. Mr Buffit would only pay 35% on the portion that is left after the corporation paid their tax.

Secondly, what if I make $100 and have to pay 35% in income tax. Then I pay my yard guy the $65 I have left. Should he have to pay tax on that money since I already did? Mr McTeer thinks not. Each dollar should just get taxed once, then we mark it with red ink and never tax it again.

Of course that is ridiculous but apparently not when applied to dividends and corporations.

Finance schminance, taxes too. I’ll be more brief this time. Buffet is being savaged by his own kind.

He’s not wrong when he says that rich folks are getting rich through their purchase of favorable tax, financial, and legal treatment from the government. It ain’t a matter of coddling, it’s a matter of purchase price.

Just as a matter of curiosity, I wonder just how many Members of Congress have had more than 3 semester of economics in school or better still how many are degreed economists?